Discounted Cash Flow

The Formula for the discounted cash flow looks like this

DCF= (CF)1/(1-r)1 + (CF)2/(1-r)2+…..+(CF)n/(1-r)n

CF= Cash Flow

r= Discounted rate (WACC)

The formula may look complex but is actually based on a very simple theory. Money depreciates over time, therefore in order to determine if a stock is a growing or not you must take the estimated future profits and find out how much that money would be worth in today’s value. That is really all it does.

Naturally a company should be making more money in the future then it is today. This is due to inflation, as time goes by and as the Fed prints more money the value of money goes down. So even if the company is not growing they should be taking in more money in the future then they are now.

This ratio looks at what that money will be worth in the future and if their income is growing because of inflation or because the company is growing. If that value is higher than the company’s present cash flow it could mean the company is growing and would be a good investment.

Other Financial Ratios

There are plenty of other indicators that investors look at when they determine if a stock is worth the investment or not. Here are a few other ratios you can look at.

Net Present Value - This is another equation that looks at inflation and a company’s sales

Debt Ratio - This is a simple formula that looks at a company’s debt

Accounts Receivable Ratio - This looks at whether a company collects its debts or not